Global Strategy Weekly
27 March 20132
Ben Bernanke would be proud of the Troika (IMF, ECB and European Commission). The FedChair thought he was being reasonably successful in using QE to suppress yields and drivesavers out of cash deposits into riskier assets. The Troika in its dealings with Cyprus havegone one better. In the eurozone it is bank deposits that will now be considered by investorsto be the risky asset.The Troika have managed to exponentially increase concerns on how safe retail deposits arein the eurozone. It matters not that the final Cypriot bailout plan did not touch smaller saversunlike the original proposal of a 6¾% tax (haircut) for ALL deposits under
100,000 in ALLbanks (including foreign bank subsidiaries). The fact that this plan was originally sanctioned,despite deposit insurance, will have shaken small saver confidence to the bone. It certainlyhas shaken my confidence.I know from first-hand experience the extreme difficulty for a European citizen to open anaccount in another European country
it is nigh on impossible for the man in the street. If
in Spain or Italy or wherever is thinking the Troika are circling their country in thefuture, it is entirely rational, as Mervyn King suggests, to panic! (The Bank of EnglandGovernor, Mervyn King once said it was not rational to start a bank run but rational toparticipate in one once it has started.) But euro-Joe Sixpack is left with the choice of stuffinghis money under the mattress or buying
financial assets (maybe overseas mutual fundsor gold?), or indeed spending the money on goods and services.The highly regarded commentator Gavyn Davies makes the point in the FT that
“althoughCyprus is tiny enough to be completely overlooked in most circumstances, its economy and banking system have characteristics similar to other, much larger, eurozone countries. Cyprus is certainly at the extreme end, but an over-leveraged banking system, with insufficient capital and reliance on foreign funding, is familiar territory in the eurozone.
Cyprus is therefore, in some respects, a microcosm of the entire eurozone crisis”
see left-hand chart below.
Private sector credit (av 2008-2010, % of GDP) Banking Assets (end 2011, % of GDP)
Source: World Bank Source: Belgium Financial Sector Federation
Indeed I heard a very cogent defence of Cyprus
s position by Nobel prize-winning economistand my former economic lecturer, Christopher Pissarides, who heads Cyprus
s EconomicPolicy Council. His response to the criticism that the Cyprus economy was, like Iceland toodominated by banking was
what about Luxembourg?
Looking at the right-hand chart above,he may have a point!Part of the Troika
s explanation for forcing depositors to take a haircut as part of the bailoutwas that not to do so would have seen Cyprus
s public sector debt/GDP ratio rocket up by50%+. Indeed last summer all EMU leaders signed a pledge to break the
between banks and state insolvency. But as the UK
s Daily Telegraph correspondent, Ambrose Evans-Pritchard highlighted, this consensus was quickly broken as
an alliance ofhard-line creditors said the European Stability Mechanism (ESM)
or bail-out fund
could notbe used to cover
from past banking crises. Ambrose goes as far as to use theword
to describe these events (see link ).